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What can we learn from Texas?

By Holden Lewis ·
Friday, April 9, 2010
Posted: 1 pm ET

How did Texas dodge the housing meltdown? By restricting cash-out refinancing, argues Alyssa Katz, author of the excellent book "Our Lot: How Real Estate Came to Own Us."

Katz's theory has a lot of merit. I'm not fully convinced, though, because Katz ignores that Texas had a cataclysmic housing bust in the middle of the 1980s.

In her essay in The Big Money, Katz notes that Texas has plenty of room to allow sprawl, just as Arizona and Nevada have. But the mortgage delinquency and foreclosure rates in Texas are far lower than those of Arizona and Nevada.

The consumer spending boom of the early and mid 2000s was fueled by cash-out refinancing and home equity lending. An exemplar is a guy who used to live on my block. He bought his house in 1999 for $123,000, with a conforming mortgage. He got his last cash-out refi in August 2005 -- a 2/28 subprime loan for $298,300.

Dude bought a tricked-out Touareg and a Harley. According to court documents, he ended up paying child support to a woman he wasn't married to. His wife divorced him, and my former neighbor was sued by his attorney for nonpayment of fees. He sold the Harley to a neighbor and Wells Fargo foreclosed on the house in February 2007, less than 18 months after he got the loan.

In six years, he used his home as an ATM and extracted $175,300 cash.

For a while, my neighbor lived well, and salesmen at VW and Harley dealerships profited, and whoever else he threw money at. But problems were created by his ability to borrow 100 percent of the home's value. The banks, eager to lend as much money as possible, allowed appraisals to become inflated. All over my neighborhood and in much of the country, the combination of subprime lending, 100 percent refinancing, and inflated appraisals led to a wave of foreclosures that hasn't yet crested.

What if my neighbor had been restricted from cashing out more than 80 percent of the home's value, as if he were in Texas? Near the top of the market, when his home's value was appraised at about $300,000, he wouldn't have been able to refinance for more than $240,000.

Would this have prevented a housing bust? Maybe not. Consider this: My former neighbor's house sold for $185,000 last August in a foreclosure sale. Even with an 80 percent cash-out limit, the previous owner would have been underwater by more than $50,000 last year.

But I'm assuming that home values would have climbed that far with the 80 percent cap in place. That's a debatable assumption. Katz writes:

The home-equity restrictions have not only helped keep cash-out refinances a rare breed in Texas; other risky mortgages were scarce there, too. The home-equity borrowing restrictions helped keep home prices from overinflating, and homebuyers therefore didn’t need to turn to exotic mortgages with features like 2/28 ARMs, interest-only payments, or negative amortization in order to purchase a home. Even when they did, Texas law requires these risky features to be clearly disclosed. Fewer than 20 percent of Texas subprime mortgages included any of them.

That's not to say that Texas borrowers didn’t get into bubble trouble. Plenty bought overpriced houses, which is why 1 in 8 Texans now owe more than their home is worth. And it was easy enough for lenders to get around the home-equity borrowing limits by using creative appraisals that pretend a home is worth more than it really is. But the casualties are orders of magnitude less than they would have been without the home-equity limits.

But Katz misses something, I believe. She misses Texas' 15-year housing bust. In a study released last year (PDF file), the Federal Housing Finance Agency says Texas house prices peaked at the beginning of 1982 and declined steadily until the beginning of 1997. Prices slid for 15 years. "Texas' real estate prices have yet to fully recover and now are roughly 15 percent below their prior peak," says FHFA's report, issued last June.

Read that again. Home prices in Texas peaked in 1982, and 27 years later, prices were still 15 percent below that 1982 peak. Those are inflation-adjusted prices, not nominal prices.

That leaves me with two thoughts. First, that maybe Texas home prices behaved differently in the 2000s than prices in Arizona and Nevada because Texas was in a different quadrant of the housing cycle. Second, that it might be decades until prices in Arizona, California, Florida and Nevada fully recover, if they follow the example of Texas.

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Randy Alvarez
May 12, 2010 at 9:54 pm

I'm pretty liberal but am not much of a spendthrift. I moved
to a Dallas suburb in 1985. I moved into an apartment. About
8 months later i had cockroach problems. I did everything to get rid of them (kept my counters clean and put just about everything in the refrigerator) but could not. Then the apartment above me caught on fire (the firemen got it put out before my apartment was damaged). So I started looking at homes for sale. No shortage of new home developments. Naively i bought a home a half mile for Lake Ray Hubbard (Rowlett, TX) 10-15 miles from downtown Dallas. It was a 3-2-2 new home; paid
$89,500 in August 1986. In 1989 my neighbor sold his 2 story
home for (i was told by the new owner) $76,000. Two other homes were vacated. I decided to check my homes value. It now assessed at about 67,000. Not a great feeling. FOrtunately i stayed employed and deciding to leave Dallas i sold it (myself with some realtors assistance) for 82,000. Basically a $10,000 lose after 10 years.
I am very displeased in general at the governments spending money to keep people in homes they should not have bought in the first place. There are a lot of people in this country who cannot afford to buy a home and this goes on. I realize SOME of them were PERHAPS mislead. The media would have us believe ALL of them were mislead. Seems like in many places (Vegas, Florida, etc) there was deception (and some self-deception perhaps) on BOTH sides of the deal. Its not like people were trying to make a quick buck on housing - there were JUST INNOCENT. OH SURE. I say screw the rich homeowners in San Fran,
Boston, Seattle and elsewhere. Screw them.

April 12, 2010 at 1:38 pm

Is there an echo in here? My neighbors bought their house 10 years ago for $89,000. A fifth wheel camper, Dodge extended cab 1 ton 4 wheel drive diesel truck, Chevy Suburban, Chevy Neon (to save gas), 4 Wheeler,(All Brand New, of course)and sundry toys, vacations and a couple of house remodels netted a new mortgage of just over $300 K.
I know these things because my neighbor showed me the offer by the bank to refinance.
Fortunately,I was greatly comforted after I learned of the foreclosure. Mrs. Neighbor assured me that "At least we get to keep our toys since the refi payed everything off."

Maybe the bottom line to all of this is that 'bubbles is bubbles' and the laws of economics, like the proverbial chickens,
will come home to roost.

Ex Texan
April 12, 2010 at 5:43 am

The 1980's oil bust hit a good portion of the rocky mountain region and other southwestern states as well. So all that oil money oozed over a sizable area. Although home equity loans at that time were illegal in Texas, housing prices thoroughly busted there anyway. Still, the home equity restrictions surely kept the Texas bubble from becoming bigger than it could have.

Holden Lewis
April 11, 2010 at 8:46 am

I don't think the Texas oil boom fully explains the housing crash of the mid-80s. If the collapse in oil prices caused housing to crash, why did house prices plunge outside of Midland-Odessa and Houston, where the oil business dominated the local economies? There was a horrific crash in Arlington, and things got bad in Dallas and Fort Worth, too (I know from firsthand experience because I grew up in Fort Worth). There was no "oil bidness" in Arlington at the time -- Midland and Odessa are a six-hour drive away -- so why was Arlington so overbuilt? Miles and miles of empty apartment complexes lined I-30 between Dallas and Fort Worth, and the entire Metroplex was pocked with housing developments and apartment complexes that were built, but sat empty for years. What does home equity extraction have to do with that? The housing bust hit most of Texas, even though the oil bust hit discrete areas.

My observation that it might take decades for prices to recover in the sand states can hardly be taken as an argument for "inflating a Ponzi Scheme." Your disagreement is with someone else, and not me. Take my observation about prices as a warning to homeowners who naively expect to get their heads above water in a couple of years, and as assuagement for prospective buyers who worry that prices will zoom before they have prepared themselves financially for homeownership.

April 09, 2010 at 11:24 pm

"First, that maybe Texas home prices behaved differently in the 2000s than prices in Arizona and Nevada because Texas was in a different quadrant of the housing cycle."

Different quadrant of the housing cycle? That really smells of academic nonsense.

The housing bubble in Texas during the late 70s was caused by the oil gold rush. Large amounts of money flowed into Texas, and Texans bought houses with it. When oil prices crashed, so did house prices.

Texas' house prices behaved differently in 2000 for exactly the reason Alyssa Katz said they did -- people couldn't spend their equity, so they didn't find home ownership a compelling investment. It is a simple truth grounded in human behavior rather than some academic nonsense about quadrants of a housing cycle.

"Second, that it might be decades until prices in Arizona, California, Florida and Nevada fully recover, if they follow the example of Texas."

So you are arguing in favor of inflating a Ponzi Scheme? Did you think about that statement carefully before writing it?

The Texas restrictions on mortgage equity withdrawal would make houses in Arizona and California much less desirable because they would no longer be able to provide free money. People would not want to own them because they could not build a Ponzi Scheme of debt with them. Yes, it certainly would take longer for prices to recover. Is that a bad thing? Are unaffordable prices at the limit of a Ponzi Scheme a good thing? I think not.